Flow Beverage Corp.

Good morning, everyone. Welcome to Blow Beverage Corps Fiscal Q3 2023 Conference Call. As a reminder, this conference call is being recorded on September 14, 2023. At this time, all participants are in listen-only mode. Following the presentation, we will conduct a question and answer session. Instructions will be provided at the time for research analysts to queue up for questions. Before we begin, we would like to remind you that today's presentation and discussion contains forward-looking statements. that involve known and unknown risks and uncertainties and other factors that could cause actual events to differ materially from current expectations and may cause actual results, performance or achievements to be materially different from those implied by such statements. The forward-looking statements are based upon and include the company's current internal estimates, plans, expectations, opinions, forecasts, projections, targets, guidance or other statements that are not statements or facts. Any statements contained herein or discussed during today's session that are not statements of historical facts may be deemed to be forward-looking statements. A number of factors could cause actual events, performance, or results to differ materially from what is projected in the forward-looking statement. A more complete discussion of the risks and uncertainties facing the company appear in the company's annual information form dated January 29, 2023, and the company's management's discussion and analysis for three months ended July 31st, 2023, which are available under the company's profile on SEDA. You are cautioned not to place undue reliance on these forward-looking statements, which only speak to the date of this presentation. The company disclaims any intention or obligation except to the extent required by law to update or revise any forward-looking statements as a result of new information or future event or for any reason. Any forward-looking statements contained herein or discussed during today's session is expressly qualified in its entirety to be above cautionary statements. I will now turn the call over to Niklas Reichenbach, Chairman of Chief Executive Officer of Flo. Please go ahead, Niklas.

Thank you, operator. Good morning, everyone, and thank you for joining us today. I'm joined by Trent McDonald, Flo's Chief Financial Officer. I'll begin today's call with an update on our transformation plan to achieve profitable growth. I will review Flo's milestone in the quarter and then pass it over to Trent to go through the financial results.

We will open the call for questions from our analysts.

We have been ongoing a major transformation to achieve profitable growth. Our strategy includes a four pillar plan. The first step of our plan was to sell our Verona production facility and we accomplished that in November 2022. Our second step was to solidify our financial position through a $20 million secured line facility and most recently through the extension of 11.4 million of unsecured debt announced two days ago. The third step was to simplify our operations. Accordingly, we have restructured our organization, reducing our corporate headcount by 30% and have simplified many of our processes. On that note, We're in the final stages of transforming to a third-party logistics platform, which represents the biggest financial piece of our expected cost savings. We are now executing on the fourth pillar of our transformation as we progress towards the sale of our Aurora production facility, which was first disclosed in our Q2 press release. The structured sales process of Aurora is going very well with many interested parties. As we previously mentioned, this sale is expected to generate a significantly higher price than the Verona facility given that Aurora is a profit center. It has capacity to expand. It has a deep, skilled labor pool and is located in close proximity to all major distribution routes. We expect that the sale will provide us the necessary capital to get us through to profitability. Although all this change, throughout all this change, we are delighted to report that Flo's branded growth has been uninterrupted. the Flo branded net revenue increased 21% in Q3 and is up 46% year to date. One factor that continues to drive the Flo branded growth is our expansion in the North American retail channel. As of July 31st, Flo was located in over 59,000 stores in Canada and the United States, representing 63% growth, over this time last year. Some of the more significant additions to the store count are Albertson Safeway, Family Dollar and Dollar Tree in the United States, and in Canada, Circle K and Save on Foods. Looking at flow branded growth revenue on a quarterly basis, you can see that we achieved a major milestone in Q3 exceeding $10 million in the quarter of Flo branded gross sales for the first time. This slide also helps illustrate some of the choppiness in the quarterly revenue figures. Last quarter we achieved 98% growth, but it was off a very low comparative quarter in Q2 2022. You might recall the wholesale CPG sector realizes low sell-in rates that quarter. You can see that the net revenue almost doubled in the quarter Q3 2022, and today we are announcing that we have topped that by 21%. We believe our year-to-date growth on the flow-branded revenue of 46% is better representation of our achievements this year. Flo remains a market leader in the carton-format water in the United States at 49% market share. This gain in market share against other beverages in similar packaging. We think it means that consumers are choosing Flo for its taste, our zero-calorie flavors, and our innovation like vitamin-infused water. Turning to our operational milestones for a year to date, as I noted earlier, we have increased our store count by 63% through great retail partnerships and have maintained our market share as the leader in carton format water. Food service has been a big contributor to the revenue this year. We added 1,100 Starbucks locations across Canada, If you frequent Starbucks close to your home, work, or even at the airport, you'll see our OG alkaline water and strawberry rose flavor displayed next to the cash register. We believe this partnership is going very well. In June, we launched with Live Nation venues across Canada. Live Nation hosts millions of concert goers. to over 1,000 concerts every year. Flow is a part of their goal to eliminate single-use plastic, reduce greenhouse gas emissions, and become zero waste by landfill by 2023. Our innovation, vitamin-infused water, is now located in 8,000 stores across North America. Alverson Safeway, are leading the way in new store counts carrying vitamin-infused water across the United States of America. And Circle K has most recently added to many of their locations across Canada. That concludes my remarks. I will now pass it over to Trent.

Thank you, Nicholas.

As mentioned, for the first time in our history, low brand net revenue topped $10 million in a given quarter. increasing to 10.5 million in Q2 2023. This represents a 21% increase year over year. As mentioned by Nicholas earlier, the flow brand grew more than 98% in Q2 from our year prior as a result of some of the lumpiness between Q2 and Q3 last year. Last year, we did in fact have a difficult Q2 which was followed by a sequential increase of 80% in Q3. Yet this year, we were still able to grow 21% compared to that specific quarter, showing the strength of the Flow brand. Overall, the Flow brand has grown 46% year-to-date at Q3. In the quarter, we did have some logistical challenges in our e-comm, which led to service interruptions, but this was more than offset by higher sales through food service, along with new retail locations and, of course, the launch of our vitamin-infused water. Consolidated revenue increased 8% in Q3 2023 to $13.8 million. If you may recall, our coal packing business in the U.S. was sold with the Verona Production Facility last year and continues to have an impact on our consolidated sales. Gross margins were 21% in Q3 2023 and have not yet benefited from the many changes we are making to our cost of goods through our operational restructuring. We believe, based on our recent execution of several of these initiatives and the imminent nature of several more, we can improve our margin dramatically over the next two to three quarters. Within the quarter, we are also impacted by a change in our e-com fulfillment methodology, which we have since rectified. Similar to Q2, revenue from food service partners now makes up a greater proportion of our sales mix. Food service remains an extremely important part of our revenue as it promotes customer trials, which should help drive revenue growth in retail and e-commerce given the thousands of new customers trying to flow. We believe that the current sales mix is somewhat of a temporary nature. In time, retail and e-commerce will grow dramatically as we also help normalize gross margin beyond beyond the cost initiatives I just mentioned. EBITDA loss was $9.8 million compared to $8.6 million last year. EBITDA includes $3.8 million in non-recurring charges, which I will touch on shortly. Excluding these charges, EBITDA would have been approximately $6 million loss. Turning to a more detailed review of our income statement, you can see that sales and marketing remain at a lower percentage of net revenue, which has been a good story. General and administrative expenses include the non-recurring $3.8 million of costs I just mentioned. Now, these costs include consulting and legal expenses attributable to our ongoing optimization initiatives and the Aurora facility divestiture. There are also temporary and legacy logistics costs as flow transitions to third-party logistics. and one-time write-offs of accounts receivable and an increase to our allowances for doubtful to mitigate our risk around some larger accounts. We also trued up costs related to the sale of the Verona production facility. Again, we do not see these costs ongoing past Q4 and certainly not into Q1. As we enter the final stages of our transformation and the sale of Aurora, we fully expect a material decline in general and administrative expenses. Salaries and benefits were slightly lower than the prior year, but it's important to note that Q3 only includes a partial impact from our restructuring and absolutely no impact from our transition to third-party logistics. Again, we believe the benefits of these initiatives will become much more evident in Q4 and certainly into Q1 and Q2 of fiscal 2024. Right now, Flow is trading at one times revenue as compared to our publicly traded beverage peers, trading at a simple average of over four revenue and five times revenue on a weighted average basis. Flow is also outpacing the industry average revenue growth rates by a wide margin, having grown the Flow brand by 46% year-to-date as compared to the average growth rate of only 18%. Given the revenue to enterprise value multiples associated with a peer group, we see a significant opportunity to unlock shareholder value. All of that said, of course, we have to execute on our plan, the result of which we believe will become evident to shareholders in the quarters to come. As Nicholas mentioned, we are in the final stages of our transformation. We have solidified our financial position through the divestiture of Verona, debt extensions, and the use of non-dilutive capitals. We've restructured our corporate staff and implemented many processes that have changed the way we do business here at Flow, making us much more focused. Once third-party logistics is fully implemented and the sale of Aurora is executed, we will be operating a truly asset-light model, which should bring higher gross margin, more control on all of our operating expenses, and very importantly, will provide the necessary capital to invest even more into accelerating growth of the flow-branded net revenue. All told, we continue to believe that we can generate cost savings of $22 to $26 million from fiscal 2022 levels and solidify our path towards profitable growth. We appreciate all of your support, and at that, operator, please open the line for questions.

Thank you. Ladies and gentlemen, we will now begin the question and answer session. Should you have any questions, please press the star followed by the one on your touchtone phone. You will hear a three-tone prompt acknowledging your request. If you would like to withdraw your request, please press the star followed by the two. Our first question comes from Martin Landry from C4. Please go ahead. Your line is open.

Hi. Good morning, guys. Good morning, Martin. My first question is, you just ended up your remark, Trent, with a comment saying that you're fully online to realize your cost savings of $22 to $26 million. Can you tell us how much of those cost savings have been achieved so far?

Yeah. Truthfully, not a whole slew of them. I'd say on an annualized basis, about 25%, 30% of those have been – you can see them in Q3. Although, because of these one-time costs and a couple of other things, they're not as evident as you might think. And the cost of goods, there have been some – some temporary issues there that come from the logistics and, you know, some service interruptions and some of the e-comm distribution things that we talked about, which again, sort of cloud those savings. But we do expect in Q4, things will become much cleaner on the P&L and certainly in the Q1. So those sort of 25, 30% that you should be able to see today, you'll definitely be able to see them. And then in addition to that, we believe by the end of Q4, the entirety of the rest of the 75%, you know, 65% to 70% will be completely evident as well.

Okay, so just to be clear, you're saying by the end of Q4, all of those cost savings will have been realized. So by Q1... starting in Q1, we should see the full benefit of that in your results. Is that correct?

That is what I'm saying, yeah. And so in Q1, we believe you're going to see a very different type of P&L coming out of flow.

Okay. And you... You talk about the food service channel being a bit margin dilutive. This may seem like a very basic question. Don't fault me from asking, but why is it that the food service channel is margin dilutive, and why is it that you're promoting sample in food service and not in all your channels? I mean, can you just walk us through a little bit as food service is becoming a bit bigger part of your sales?

Sure. Sure, absolutely. Food service, you know, first of all, before we talk about the margin of food service, there's a strategy that goes with food service. When you're in places like a great one, obviously, being Starbucks, it promotes trial, and trial promotes conversion, conversion into higher margin channels like e-comm, You know, obviously, Whole Foods and Costco and Sobeys and Loblaws and all the things in the States with Publix and Albertson Safeway. And that's where you really want people to start to shop is all of these great retail partners that we have that have higher margins. And so you have to promote trial because trial is just a wonderful marketing tool versus going, you know, spending money on commercial advertising, television. You know, trial is great, but you have to look at the right sort of trial partners that can lead to that conversion that we're talking about. Specifically in food service, because they're buying so much volume and there's margin that they need to make on it, especially when you're talking about travel like hotels like Acorn Hotel Chain or Norwegian Cruise Lines. uh airline any kind of airlines you know a lot of these folks give give water away quite frankly and then um you know they're they're running on tight margins themselves it's not like your typical mainstream grocery store and so it's very competitive and especially given the nature of it being a marketing tool it's very competitive when these things go to rfp and so for us you know it there's a means to an end there and so the margin uh as we continue to talk about is not going to be as high it's never going to be as high in those channels but the idea is that becomes temporary and over quarters to come in years to come you see a lot more conversion and your higher margin channels continue to grow and grow grow if you're doing it correctly so as an example starbucks we said before we believe it to be going uh very very very successfully And our e-comm in the SKUs that are available in Starbucks immediately increased in terms of the volume coming through e-comm and even other channels as a result of that initiative. So there is a benefit that comes from it, but margin is quite a bit lighter for sure.

Okay, that was going to be a bit of a follow-up for me, given that you opened the door. What kind of conversion are you seeing? You talked about some of the SKUs available, for instance, at Starbucks, where you've seen a lift on your e-commerce website. Can you talk about what kind of increase you've seen on e-commerce? I know you've had some issues, but let's say in the month where you haven't had an issue this quarter, how much were your e-commerce sales up by?

Look, you know, we don't normally disclose these kinds of things, but because you're asking and we like you so much, I'll let you know that in the, you know, e-comm just in Canada, because Canada, we didn't have the same sort of service interruptions as we did in the States. And in this quarter, e-comm Canada topped 75% growth. And it's never been that high, never. You know, typically speaking, we're budgeting to do 35% growth in e-comm and we came 75% and that again came off that same really big quarter last year. So 75% off that quarter, that's phenomenal. And that we attribute that a lot to the success of what we're doing in Starbucks and other areas.

Okay.

Sorry. Nick, did you, did you want to add something?

The strategy, Martin, moving forward on food service is going to be supported by all of the core skews of flow. In fiscal 2024, we'll have a QR code on either side of the pot, allowing consumers to take the photo with their phone and engage with us on our direct-to-consumer site. So that's really exciting news on how we're going to kind of maintain and grow that kind of connection to the consumer and also back to giving them the locations of other retailers where they may want to actually buy one liters or a case of slow. So we're really engaged with food service to make that trial and that low margin account turn into a high margin customer that has lifetime value for flow.

Okay, two more and then I'm going to wrap it up. Just trying to understand how big is the food service channel for you guys now versus a year ago? Do you have a breakdown of your sales by channel just in terms of proportion of total sales that would be helpful?

Yeah, we do. We don't normally disclose that as well because it does change, you know, obviously dramatically quarter to quarter. But, you know, look, it's significant. It's certainly not half by any stretch of the imagination, but it's significant enough. And so an e-comm obviously has nothing to do with food service. And today e-comm represents, you know, what is it, about 25, 30% of our population.

our total sales so flow branded sales I should say so I would say you're talking you know a third less than a third for sure okay near it near a third of your sales are coming from the food service channel today yes okay and then last question on your sale of your Aurora facility I know some of it is out of your control, but is there a timeline that you can provide us with in terms of when you can announce something?

Yeah, look, there's all kinds of moving parts there internally and externally, and so I can't tell you definitively when we're going to go full 3PL and do some of the things we're going to do, and certainly with the Aurora facility, you can't. It's an ongoing process. Both of these things we've been aggressively moving towards, I can tell you that. And to Nick's point earlier on the Aurora facility, we have lots of interested parties and quite a few avenues for full or partial divestiture. So we feel very optimistic and expect fully that a transaction will occur the timing and value, which you'll find out, I guess, with everybody else. But we are happy with the process thus far.

Is there a potential for that to close before the calendar year end?

Yes. There's a potential. I'm not saying it will, but there's definitely potential, yes.

Okay. Okay. That's it for me. Thank you. Thanks, Martin. Thanks, Martin.

Thank you. The next question comes from Sean McCown from Roth MLM. Please go ahead. Your line is open.

Thank you. Good morning, guys. I have a couple of questions as well. A few surrounding margins, so can you just comment on what you're seeing as sort of the basic margin on flow branded you know putting aside uh any you know logistical issues and putting aside co-packing absorption etc like are you getting the margin that you're hoping to get on the basic sale of flow branded goods yes yeah that's the short answer yes um we are we we've done an in-depth you know we continue to do in-depth analysis on our margins and what's

You know where we where we believe we would be on a normalized basis, even in Q3, even with the mix that we continue to refer to, we think, you know, had just a few of the initiatives that we talked about been been in full force and effect throughout the throat just Q3. we would have been in the low 30% margin. That's 10 to 12% higher than what you see in our financial report. That's just from some of the initiatives without changing any of the sales mix. If the sales mix changes, clearly that has an impact on those margins as well. There are definitely things that we know, and that's why we feel so confident in Q1 and Q2 as we go forward. You'll see some more of it in Q4 than you did in Q3, but in Q1 and Q2, you'll definitely start to see what we're talking about here.

Okay. In aggregate, is co-packing contributing positively to the gross profit line?

Yeah. Yeah. Yes, it is. It continues to.

That's not like a surprisingly worse than expected drag. You know, that's, I'm trying to get, I'm trying to get my arms around like, where is the, you know, it's a lot lower than I thought it was going to be in this quarter. And I thought we had talked about that. So I'm trying to get a sense of where is the shortfall and how quickly can that be addressed? And has it already been addressed?

It has. There's two things that have already been addressed that we know are, are, changing in in the court right now one's already executed on it's done uh it's happened we've already executed on it in this quarter that we're currently in q4 and the other will be executed on and literally within the next two weeks we will have have done what we need to do to rectify that situation as well i would say rectify because it's more of a change in strategy than a rectification of an issue uh but the uh you know 3pl and some other things we're doing by september 30th it's all it's done it's executed so um then on the back side of that you're a very different uh organization there's just a couple things that drag that we really hadn't expected and discovered in the quarter that you know made us have to react very quickly which we did uh so that will no longer be an ongoing issue but um but like i say these these initiatives uh that we've been talking about sometimes You know, in truth, it took us longer than we thought. We're probably about one full quarter behind where we would have liked to have been six to eight months ago. But that being said, in the long run, years from now, I don't think anybody's going to remember one quarter of delay, but that's where we are. So, you know, we're very comfortable in saying in Q1, Q2, that it's going to be very, very different, you know,

Okay, so it sounds like some issues came up and you had to spend some money that you weren't expecting to spend to fix them. Did these issues have any significant impact on your actual ability to get revenue, or is it you just spent money to get the revenue that you could have gotten and you didn't really lose any revenue?

No, we actually did lose a little bit of revenue, quite frankly, specifically in e-com in the United States with some of the logistical issues we're having in the United You know, there were a few things in terms of service interruption caused by that sort of side of our business. And as a result, you know, our monthly subscribers took a bit of a hit for a bit. Now they've stabilized and we're starting to come up the other side. But we could see a material impact for about three months there. And as a result, our e-com business in the U.S. in the quarter for the first time ever actually declined in Q3. Q3 versus that 75% increase I just talked about for Canada. So it had an impact. But now we've already, we've been watching it closely and we've already seen it, like I said, stabilize and start to come up the other side, which we expect will continue.

And with these e-com issues, you know, problems on your end, problems on the partner's end, some kind of combination, or was it capital? Yeah, you know what,

I, you know, I'd love to say it was a pure combination and, and, and sort of place blame and others, but look, we have to look at ourselves when it comes to these kinds of things. And, you know, we, we own it and, and, uh, you know, but that's part of, you know, look, we, we've had logistical and, you know, I don't want to, we have a great team. We have a lot of dedicated team members, uh, in, in that area of our business. Uh, so I, I give them all the praise in the world. Uh, but as an organization, holistically, We've made it very complex and it's hard to manage by time and it's nobody's individual fault, but it's a very complex, convoluted area of our business that costs a lot of money, certainly well beyond what would be an industry norm per case. And sometimes these issues come up as a result of that complexity that we created, which is all the more reason that we have been aggressively moving towards an entirely new strategy.

Okay. And last question for me, changing gears here is, and maybe you've talked about this or maybe not, just given the discussions you've had on Aurora and the sale, do you have any sense of what the gross proceeds could be?

Well, yeah, again, we can't disclose exactly, but we've been saying, you know, every time that comes up that, you know, the overall value that is significantly and materially higher than Verona for all the reasons we said. I mean, it's a profit center. It has very, very healthy EBITDA. It has expansionary capabilities. It's on major distribution channels. It has a growing and skilled labor pool in that specific geographic area. There's a lot about it that is extremely attractive to potential suitors. And as a result of that, we expect that we're going to get like multiples of the value that was originally placed on Verona.

Okay. And just to me, you know, there's a lot of different ways of talking about the value of a real estate type transaction. So what, what would you, how would you characterize Verona? Like what, what was that deal? Sort of as a base case. Yeah. 19 million or something.

Yeah. It was 26, including the, the, the debt. So the enterprise value that we got was about $26 million. And so that had a very different strategic purpose for us, as we said in the four-pillar plan.

I understand. When you say multiples of Verona, you mean multiples of that number, not multiples.

That's right.

Okay. That's very helpful.

Appreciate that. Thanks, guys. Thank you.

Thank you. As a reminder, to register for a question, please press star, followed by the one on your touchstone phone. Our next question comes from the line of Najeeb Islam from Canaccord. Please go ahead. Your line is open.

Good morning. I just wanted a bit more clarity on the gross margin number. Could you maybe give me an idea of how much of the gross margin change was attributable to margin versus the change in fulfillment technology, which was mentioned in the press release?

Yeah, look, we believe that – well, we've already run our numbers, and I said a couple minutes ago there that we believe on a normalized basis in Q3 we could have easily been over 30%. And so it's significant, the things that we're talking about here.

Okay, got it. And I also had some questions on the cost savings that you're hoping to achieve. Is – the number you're targeting completely independent of if the facility takes longer to sale or is it completely independent?

It is completely independent.

Okay, got it. And I also had a question about your market share in the current format. I saw that you're at 49%. Do you think there's a lot of additional runway ahead or are you comfortable with kind of where you're at now?

Nick, do you want to talk about that? No, there's definitely significant runway ahead as we gain market share against our competitors. And I would see this continuing all throughout next year as the Flow branded products grow at a similar pace.

Sure, got it. I'll pass that line along. Okay, thank you. There are no further questions.

This does conclude today's conference call. Thank you all for attending. You may now disconnect your lines.